Davis Polk & Wardwell LLP

Proposed U.S. Federal Cannabis Legislation: Briefing on the SAFE Banking Act and STATES Act

UPDATE FOR THE SENATE BANKING COMMITTEE HEARING ON JULY 23, 2019

July 22, 2019

© 2019 Davis Polk & Wardwell LLP | 450 Lexington Avenue | New York, NY 10017 This communication, which we believe may be of interest to our clients and friends of the firm, is for general information only. It is not a full analysis of the matters presented and should not be relied upon as legal advice. This may be considered attorney advertising in some jurisdictions. Please refer to the firm’s privacy policy for further details.

Contents

1. Introduction………………………………………………………………………………… 2

2. Challenges under the Existing Legal Framework……………………………………… 3

3. The SAFE Banking Act…………………………………………………………………… 11

4. The STATES Act………………………………………………………………………….. 20

5. Comparing the SAFE Banking Act and STATES Act…………………………………. 24

6. Davis Polk Contacts……………………………………………………………………… 29

1

Readers’ Guide Those who are familiar with the topic might skip directly to page 24 where there is a chart comparing

the SAFE Banking Act and the STATES Act.

Introduction

2

• This memorandum provides a basic briefing on two bills:

− The Secure and Fair Enforcement Banking Act (the SAFE Banking Act); and

− The Strengthening the Tenth Amendment Through Entrusting States Act (the STATES Act).

• Neither bill would federally legalize cannabis or deschedule cannabis from Schedule 1 of the

Controlled Substances Act (CSA).

• Instead, the bills would permit depository institutions, in the case of the SAFE Banking Act, or

financial institutions, in the case of the STATES Act, to provide financial services to cannabis-

related businesses (CRBs) that comply with state laws regulating legalized cannabis-related

activity.

• Both bills would benefit from changes that would take into account a broader range of financial

services and the practical difficulties in conducting diligence in the financial sector.

• We will continue to update the memorandum as the bills make their way through Congress.

3

• Changing State Laws and Static Federal Laws Related to Cannabis Are Creating an

Unworkable Situation.

− An increasing number of states are legalizing medical and/or recreational cannabis.

− Canada legalized recreational cannabis, effective October 17, 2018.

− Cannabis remains a Schedule 1 drug under U.S. Federal law, and proceeds from related activities remain

subject to U.S. anti-money laundering (AML) laws, such as the Money Laundering Control Act (MLCA).

− Given the uncertain enforcement and heavy penalties, the vast majority of financial institutions consciously

avoid knowingly providing financial services to U.S. CRBs.

• Considerable uncertainty persists for how financial institutions should approach Canadian CRBs.

− For an overview of the current state of play regarding the conflict between Federal law and state law with

respect to the U.S. cannabis sector, and its implications for financial institutions, see Margaret Tahyar &

Jeanine McGuinness, Financial Services and the US Cannabis Sector, Practical Law (Apr. 2019) [Link].

• In the Meantime, the Cannabis Sector is Transitioning from a Mom-and-Pop Sector into Big

Business, with Major Implications for Investment and Compliance.

− For commentary on the implications of the current versions of the SAFE Banking Act and the STATES Act

for the cannabis sector’s transformation, see pages 26–27.

Overview CHALLENGES UNDER THE EXISTING LEGAL FRAMEWORK

4

House Financial Services Committee Map (as of February 13, 2019)

CHALLENGES UNDER THE EXISTING LEGAL FRAMEWORK

Source: Committee Memorandum for the HFSC Hearing (citing a Congressional Research Service presentation of data from the

National Conference of State Legislatures)

This map comes from the committee

memorandum submitted for the February 13,

2019 hearing entitled “Challenges and

Solutions: Access to Banking Services for

Cannabis-Related Businesses,” convened by

an HFSC subcommittee (HFSC Hearing).

The committee memorandum uses:

• “limited-access medical” to mean low-

tetrahydrocannabinol (THC) cannabis or

cannabidiol (CBD) oil

• “state-approved” to mean (i) legalization of

recreational and/or medical cannabis and/or

(ii) decriminalization of cannabis possession

in small amounts

• “decriminalization” to mean withdrawal of

criminal penalties for cannabis possession

in small amounts.

According to this taxonomy:

• 47 states have legalized or decriminalized

some form of cannabis

• 33 states have legalized medical cannabis

(not including limited access)

• 10 states have legalized recreational

cannabis

• Washington, D.C. has legalized medical

and recreational cannabis

February 2019

5

• Federal Agencies Cannot Fix the Problem.

− Federal banking agencies must operate within the bounds of Federal law and are unlikely to believe they

have authority to lift barriers for financial institutions to provide financial services to CRBs.

− Relying on existing Federal guidance remains perilous.

• Federal agency guidance, such as the guidance issued by the Financial Crimes Enforcement Network

(FinCEN) in 2014 (FinCEN Guidance), is nonbinding and revocable, as seen with then-Attorney General Jeff

Session’s rescission of the Cole Memoranda issued in 2013 and 2014.

• Even before rescission, the Cole Memoranda merely articulated a set of advisory priorities. Neither Cole

Memorandum purported to alter Federal law or the Department of Justice’s (DOJ) prosecutorial authority.

Constraints on Federal Agencies CHALLENGES UNDER THE EXISTING LEGAL FRAMEWORK

I don’t believe this is a failure of the regulators. I want to defend the regulators on this

issue. . . . This is something where there is a conflict between federal and state law that

we and the regulators have no way of dealing with.

–Secretary Treasury Steven Mnuchin, before the House Appropriations Committee (Apr. 2019)

“ ”

6

• Challenges Arise from Large Volumes of Cash.

− The vast majority of financial institutions are unwilling to directly assist CRBs given the threat of federal

prosecutorial or regulatory penalties, exacerbating the cannabis sector’s dependence on cash.

− The cash-intensive nature of the cannabis sector creates risks to public safety and obstacles to

tax collection.

Cash-related Concerns CHALLENGES UNDER THE EXISTING LEGAL FRAMEWORK

It is ironic that we are forcing one sector of the economy to be cash-based at the

same time that the digital transformation is leading in the opposite direction.

–Margaret Tahyar, in Bloomberg Law (Feb. 2019)

“ ”

I assure you that we don’t want bags of cash. We want to make sure we can collect

our necessary taxes and other things in other than cash.

–Secretary Treasury Steven Mnuchin, before the HFSC (Feb. 2018)

“ ”

Lack of access to banking services that are taken for granted by other legal businesses—

opening accounts, writing checks, accepting credit cards, transferring money—forces

cannabis businesses to deal in large amounts of cash, which makes them targets for

assaults and puts the general public in danger.

–John Chiang, in a report by the California State Treasurer’s Cannabis Banking Working Group (Nov. 2017)

“ ”

7

• Recent USDA Analysis Clarifies that Hemp is No Longer a Controlled Substance, but

Additional Implementation of the 2018 Farm Bill is Still Needed.

− The 2018 Farm Bill legalized the production of industrial hemp for purposes beyond research by removing

hemp from the definition of “marihuana” in Schedule I of the CSA.

• To assume primary regulatory authority over hemp production, states must submit a plan to the U.S.

Department of Agriculture (USDA) and the USDA must approve the plan.

• In the absence of an approved state plan, regulation of hemp production within a state would be subject to

the federal plan established and implemented by the USDA.

• Federal Reserve Governor Bowman has pledged to take action to instruct financial institutions that they may

bank hemp growers and hemp-related businesses in light of the 2018 Farm Bill.

− The General Counsel of the USDA issued a memorandum and legal opinion on May 28 [Link] concluding:

• Hemp and tetrahydrocannabinols (THC) in hemp have been removed from Schedule I of the CSA and are no

longer controlled substances. The decontrolling of hemp and THC in hemp is self-executing. The CSA

implementing regulations must be updated to reflect the amendments to the CSA but the publication of

updated regulations is not necessary to execute the removal of hemp and THC from Schedule I.

• After the USDA publishes regulations implementing the 2018 Farm Bill, states and Indian tribes may

not prohibit the interstate transportation of hemp lawfully produced under a state or tribal plan or under a

license issued under a USDA plan; nor may states and Indian tribes prohibit the interstate transportation of

hemp lawfully produced under the 2014 Farm Bill.

• The 2018 Farm Bill does not affect the authority of the Secretary of Health and Human Services or the

Commissioner of the Food and Drug Administration (FDA) under applicable FDA laws.

Regulation of Hemp CHALLENGES UNDER THE EXISTING LEGAL FRAMEWORK

8

• Avoiding Indirect Dealings with CRBs Is Becoming More Challenging for Financial

Institutions.

− How should financial institutions make decisions around indirect business—conducting business with

parties that serve the U.S. cannabis sector? What, if any, diligence must they conduct in these

circumstances?

• See Loren Picard, You already bank the pot industry. You just don’t know it, American Banker (June 2017).

− Testimony on behalf of community banking and credit unions at the HFSC Hearing, emphasized this issue:

Ancillary Businesses CHALLENGES UNDER THE EXISTING LEGAL FRAMEWORK

Indirect connections to marijuana revenues are hard, if not impossible, for financial institutions to both identify and

avoid. [L]ike almost every other business, the [cannabis] industry is dependent upon any number of vendors and

suppliers to function. These are everyday businesses like the printing company[,] the office supply company[,] the

housekeeping crew or landlord[,] and even the utility company. . . . Under the existing status quo, a credit union that

does business with any one of these indirectly affiliated entities could unknowingly risk violating the federal

Controlled Substance Act, . . . Bank Secrecy Act, . . . among other federal statutes.

–Rachel Pross, on behalf of the Credit Union National Association (Feb. 13, 2019)

What is less well appreciated are the risks and burdens of serving, or merely monitoring in the course of our

due diligence, the numerous indirect cannabis-related businesses. . . . Consider the plumbers, electricians,

internet service providers, and accountants, . . . whose customer base includes cannabis-related businesses.

These businesses are also drawn into the net, as is any business that, knowingly or unknowingly, derives any

revenues from a cannabis business. As a senior official from the Washington State Department of Financial

Institutions recently told me, ‘banks may not know’ that they are serving cannabis-related businesses.

–Gregory S. Deckard, on behalf of the Independent Community Bankers of America (Feb. 13, 2019)

“

“ ”

”

9

• Calls for federal legislative clarity for the financial sector on cannabis-related banking have been made by members of

Congress and government officials in both political parties, including:

− The House recently passed an appropriations bill that would prohibit the use of certain Federal funds to penalize

financial institutions solely because such institutions provide “financial services” to CRBs operating legally under state

law (June 2019).

− Representative Maxine Waters, the Chairwoman of the HFSC, said, “[I]t’s inevitable we are going to have to talk about”

this issue (Nov. 2018).

− Ten senators, including Kirsten Gillibrand, Elizabeth Warren, Bernard Sanders, and Cory Booker, stated in a letter to

FinCEN: “Locking [direct and indirect businesses such as] lawyers, landlords, plumbers, electricians, security

companies, and the like out of the nation’s banking and finance systems serves no one’s interest” (Dec. 2016).

− A bipartisan group of 38 state and territorial attorneys general signed an open letter to Congress calling for Federal relief

for banks and financial institutions, highlighting the need for “federal rules that permit a sensible banking regime for legal

businesses” (May 2019).

− Attorney General William Barr said, “[I]f states continue to pass these laws [legalizing cannabis], are we going to

continue to forebear in those new states[?] I would like Congress to address this issue” (Apr. 2019).

− Treasury Secretary Steven Mnuchin said, “The problem is there a conflict between the federal law and the state law. . . .

There is not a Treasury solution to this, there is not a regulator solution to this” (Apr. 2019).

− Federal Reserve Board Chairman Jerome Powell said, “[F]inancial institutions—and their regulators and supervisors—

are in a very difficult position here with marijuana being illegal under federal law and . . . legal under a growing number

of state laws. It puts financial institutions in a very difficult place and puts the supervisors in a difficult place. It would be

nice to have clarity on that supervisory relationship” (Feb. 2019).

− Comptroller of the Currency Joseph Otting said, “Congress is going to have to act at the national level to legalize

marijuana if they want those entities involved in that business to utilize the U.S. banking system” (Jan. 2019).

Calls for Congressional Reform at the Federal Level CHALLENGES UNDER THE EXISTING LEGAL FRAMEWORK

10

• Over the last six years, 237 members of Congress have sponsored a version of the SAFE

Banking Act and/or the STATES Act that would address the provision of direct and indirect

financial services to CRBs.

• In light of this legislative and regulatory momentum, Isaac Boltansky, Director of Policy Research

for Compass Point Research & Trading, predicts the following:

Momentum toward Banking Clarity CHALLENGES UNDER THE EXISTING LEGAL FRAMEWORK

We firmly believe that a cannabis banking fix…will become law during this Congress if the

debate remains squarely focused on safety and states’ rights…we expect House passage

of the SAFE Banking Act before the August recess and passage of cannabis banking

clarity legislation…as early as this fall.

–Isaac Boltansky, Compass Point Research & Trading, LLC (July 1, 2019)

“ ”

11

• The Secure and Fair Enforcement Banking Act (the SAFE Banking Act)

− Most recently introduced in the House (H.R. 1595) by Reps. Ed Perlmutter (D-CO), Denny Heck (D-WA),

Steve Stivers (R-OH), and Warren Davidson (R-OH) on March 7, 2019 and amended for a March 26 markup.

• A version was also introduced in the Senate (S. 1200) by Sens. Jeff Merkley (D-OR) and Cory Gardner (R-CO).

− Aims to improve public safety by expanding financial services (as defined below) to cannabis-related

legitimate businesses and service providers and reducing the amount of cash at such businesses.

− Provides a safe harbor from Federal banking regulators taking certain actions against depository institutions

solely for providing financial services to cannabis-related legitimate businesses or service providers.

− Provides that proceeds of a transaction conducted by a cannabis-related legitimate business or service

provider shall not be considered proceeds of an unlawful activity under the MLCA solely because the

transaction was conducted by such business.

− Provides certain protections from (i) liability under any Federal law for depository institutions and insurers that

provide financial services to cannabis-related legitimate businesses or service providers, and (ii) forfeiture of

certain collateral for depository institutions that provide financial services to such businesses.

− Requires financial institutions to comply with FinCEN’s guidance when filing suspicious activity reports

(SARs) related to cannabis-related legitimate businesses and service providers.

− Requires the Federal Financial Institutions Examination Council (FFIEC) to issue guidance and examination

procedures.

− Requires the Federal banking regulators and Government Accountability Office (GAO) to submit reports and

recommendations, such as on diversity and inclusion.

Overview THE SAFE BANKING ACT

12

• The SAFE Banking Act covers depository institutions that offer a financial service to

cannabis-related legitimate businesses or service providers.

− “Depository institution” means a depository institution (as defined in 12 U.S.C. § 1813(c)); or a Federal credit

union or State credit union (as defined in 12 U.S.C. § 1752).

− “Financial service”

• means a “financial product or service,” as defined in 12 U.S.C. § 5481;

• plus the following additional products and services:

• the “business of insurance,” which is cross-referenced to mean

“the writing of insurance or the reinsuring of risks by an insurer”

as well as all necessary acts and related activities;

• whether performed directly or indirectly, functions related to payments or funds, where such payments or

funds are made or transferred by any means (e.g., payment cards, accounts, checks, or electronic funds

transfers);

• acting as a money transmitting business which directly or indirectly makes use of a depository institution in

connection with effectuating or facilitating a payment for a cannabis-related legitimate business or service

provider in compliance with 31 U.S.C. § 5330, and applicable State law; and

• acting as an armored car service for processing and depositing with a depository institution or the Federal

Reserve Board with respect to any monetary instruments.

Definitions THE SAFE BANKING ACT

financial product or service

The term comes from the

consumer provisions of the

Dodd-Frank Act establishing

the Consumer Financial

Protection Bureau (CFPB).

13

• Definition of “Financial Service”

− The SAFE Banking Act’s definition of “financial service” relies on a cross-reference to “financial product or

service” from Title X of the Dodd-Frank Act, which focuses on the consumer protection context and

establishes the CFPB’s jurisdiction.

− Title X’s definition of “financial product or service” excludes capital markets and wholesale activities, such as

underwriting, broker-dealer activities, asset management, and custody.

• For our view that relying on the consumer definitions is a poor choice, see our blog post:

Margaret Tahyar & Jeanine McGuinness, HFSC Advances the SAFE Banking Act to the Full House, Financial

Regulatory Reform (Apr. 2019) [Link].

Definitions THE SAFE BANKING ACT

14

• The SAFE Banking Act covers depository institutions that offer a financial service to

cannabis-related legitimate businesses or service providers.

− “Cannabis-related legitimate business” means a manufacturer, producer, or any person or company that:

A. engages in any activity described in subparagraph (B) pursuant to a law established by a State or a political

subdivision of a State, as determined by such State or political subdivision; and

B. participates in any business or organized activity that involves handling cannabis or cannabis products,

including cultivating, producing, manufacturing, selling, transporting, displaying, dispensing, distributing, or

purchasing cannabis or cannabis products.

− “Service provider”

A. means a business, organization, or other person that (i) sells goods or services to a cannabis-related

legitimate business; or (ii) provides any business services, including the sale or lease of real or any other

property, legal or other licensed services, or any other ancillary service, relating to cannabis; and

B. is not a cannabis-related legitimate business.

− “Cannabis product” means any article containing cannabis, including articles that are concentrates,

edibles, tinctures, cannabis-infused products, or topicals.

Definitions THE SAFE BANKING ACT

15

• The SAFE Banking Act provides a safe harbor for depository institutions,

which would prohibit a Federal banking regulator from:

− Terminating or limiting a depository institution’s deposit insurance,

or taking any other adverse action against a depository institution

solely because it provides financial services to cannabis-related legitimate

businesses or service providers operating pursuant to State law

− Prohibiting or penalizing a depository institution for or discouraging a depository

institution from providing financial services to such businesses or to a State

exercising jurisdiction over such businesses

− Recommending or incentivizing a depository institution not to offer financial services

to certain account holders involved in such businesses

− Taking adverse or corrective actions on loans to such businesses, to certain persons

involved in such businesses, or to owners or operators of real estate or equipment

leased to such businesses solely because such businesses are cannabis-related

businesses or service providers

− Prohibiting or penalizing a depository institution (or entity performing services for the

depository institution) for or discouraging such institution from engaging in a

financial service for cannabis-related legitimate businesses or service providers.

• The safe harbor also extends to institutions applying for depository institution

charters.

Safe Harbor for Depository Institutions THE SAFE BANKING ACT

Federal banking

regulators

• Federal Reserve Board

• CFPB

• Federal Deposit Insurance

Corporation (FDIC)

• Office of the Comptroller of

the Currency (OCC)

• National Credit Union

Administration (NCUA)

• Treasury Department

• FinCEN

• Office of Foreign Assets

Control (OFAC)

• Any Federal agency or

department that regulates

banking or financial

services, as determined by

the Treasury Secretary

The safe harbor would not

apply to prosecution by DOJ.

16

Protections for Ancillary Businesses

• For the purposes of the MLCA and all other provisions of Federal law, the proceeds from a

transaction conducted by a cannabis-related legitimate business or service provider shall not be

considered proceeds from an unlawful activity solely because the transaction was conducted by a

cannabis-related legitimate business or service provider, as applicable.

Protections for Ancillary Businesses THE SAFE BANKING ACT

Notably, this provision is not limited to any particular institution and appears to apply to

depository institutions, other financial institutions, and even CRBs.

17

• Protections for Depository Institutions

− General Protections. A depository institution, entity performing a financial service for or in association with

a depository institution, or insurer that provides financial services to a cannabis-related legitimate business

or service provider pursuant to State or local law within a jurisdiction that has legalized cannabis-related

activity may not be held liable pursuant to any Federal law or regulations:

• solely for providing such financial services pursuant to State or local law or regulation; or

• for further investing any income derived from the financial services.

− Forfeiture Protections. A depository institution that has a legal interest in the collateral for a loan made to

an owner or operator of a cannabis-related legitimate business or service provider, or to an owner or

operator of real estate or equipment that is leased or sold to a cannabis-related legitimate business or

service provider, shall not be subject to criminal, civil, or administrative forfeiture of that legal interest

pursuant to any Federal law for providing the loan or other financial services solely because the collateral is

owned by a cannabis-related business or service provider.

• Protections for Federal Reserve Banks

− The general and forfeiture protections above also extend to Federal Reserve Banks that provide services to

a depository institution that provides a financial service to a cannabis-related legitimate business or service

provider pursuant to State or local law within a State or local jurisdiction that has legalized cannabis-related

activity.

Protections under Federal Law THE SAFE BANKING ACT

18

No Obligation to Provide Financial Services

• The SAFE Banking Act does not compel a depository institution, entity performing a financial service for or in

association with a depository institution, or insurer to provide financial services to cannabis-related legitimate

businesses or service providers.

Modified Reporting Obligations for Financial Institutions

• The SAFE Banking Act amends the Bank Secrecy Act’s (BSA) requirements for filing SARs.

− Requires financial institutions that report suspicious transactions to comply with appropriate guidance issued by

FinCEN if the reason for the SAR relates to cannabis-related legitimate businesses or service providers

− Requires the Treasury Secretary to ensure that guidance issued by FinCEN:

• Is consistent with the SAFE Banking Act’s purpose and intent; and

• Does not significantly inhibit financial institutions from providing services to cannabis-related legitimate

businesses or service providers in State or local jurisdictions that permit such cannabis-related activity.

Guidance and Examination Procedures

• Within 180 days after the SAFE Banking Act’s enactment, the FFIEC must develop uniform guidance and

examination procedures for depository institutions that provide financial services to cannabis-related legitimate

businesses and service providers.

Obligations for Financial Institutions and Federal Regulators

THE SAFE BANKING ACT

19

The SAFE Banking Act requires the following studies and reports:

Annual Diversity and Inclusion Report

− Federal banking regulators shall issue an annual report to Congress containing:

• information and data on the availability of access to financial services for minority-owned and women-owned

cannabis-related legitimate businesses; and

• any regulatory or legislative recommendations for expanding access to financial services for minority-owned

and women-owned cannabis-related legitimate businesses.

GAO Study on Diversity and Inclusion

− The Comptroller General of the United States shall:

• carry out a study on the barriers to marketplace entry and access to financial services for potential and existing

minority-owned and women-owned cannabis-related legitimate businesses; and

• issue a report to Congress, containing (1) all findings and determinations made in carrying out the study; and

(2) any regulatory or legislative recommendations for addressing the above barriers and access issues

GAO Study on Effectiveness of Certain Reports on Finding Certain Persons

− Within 2 years after the SAFE Banking Act’s enactment, the Comptroller General of the United States shall

carry out a study on the effectiveness of reports on suspicious transactions at finding individuals or

organizations suspected or known to be engaged with transnational criminal organizations and whether any

such engagement exists in States that allow certain cannabis-related activities.

Other: Government Reports and Recommendations THE SAFE BANKING ACT

20

The Strengthening the Tenth Amendment Through Entrusting States Act (the STATES Act)

• The STATES Act was most recently introduced on April 4, 2019 by:

− Senators Elizabeth Warren (D-MA) and Cory Gardner (R-CO) in the Senate (S. 1028); and

− Representatives Earl Blumenauer (D-OR) and David Joyce (R-OH) in the House (H.R. 2093).

• The purpose of the bill is to amend the CSA to create a new rule regarding the CSA’s application

to marijuana.

• The bill provides that the CSA generally would not apply to marijuana-related conduct that is legal

under State law.

• The bill would protect the financial services sector by providing that:

− The proceeds of any marijuana transaction conducted in compliance with State law would not be deemed

the proceeds of an unlawful transaction under the MLCA or any other provision of law; and

− Marijuana-related conduct that is legal under State law would not serve as a basis for criminal or civil asset

forfeiture.

• President Donald Trump said in June 2018 that he “probably will end up supporting” the bill.

• Attorney General William Barr said in April 2019, “I’ve just circulated [the bill] to the [DOJ] for

comment. . . . I’d much rather that approach . . . the approach taken by the STATES Act . . . than

where we currently are.”

Overview THE STATES ACT

21

• The STATES Act would amend the CSA by inserting a new section (710) that specifically governs

marijuana-related activities:

− Renders inapplicable CSA prohibitions on the manufacture, production, possession, distribution,

dispensation, administration, or delivery of marijuana where such activity complies with:

• (a) State law or (b) tribal law,

• Subject to exceptions under Section 710(c) and (d) (see page 22).

• Of particular importance to financial institutions is the STATES Act’s new rule of construction,

which provides that proceeds from CRBs operating in compliance with the STATES Act will not

trigger prosecution under the MLCA.

− Marijuana-related activity in compliance with State law and the STATES Act shall not:

• Be unlawful;

• Constitute “trafficking” of a controlled substance within the meaning of the CSA (21 U.S.C. § 841) or any other

provision; or

• Constitute the basis for criminal forfeiture under the CSA (21 U.S.C. § 881) or civil forfeiture under 18 U.S.C.

§ 981.

− Proceeds from transactions involving marijuana-related activity in compliance with State law and the

STATES Act shall not:

• Be deemed the proceeds of an unlawful transaction under the MLCA or any other law.

Amendment to the CSA; Protections for Financial Institutions

THE STATES ACT

22

• The STATES Act would not protect financial institutions from prosecution under the MLCA if the

financial institution provides services to a CRB that participates in certain cannabis-related activity,

including, for example:

− distribution to persons under 21 years old (other than distribution of medical marijuana in compliance with

State law) (21 U.S.C. § 859) (Section 710(c)(1) and (4))

− violating the CSA with other controlled substances (Section 710(d)(1))

− conducting marijuana-related activities that violate State or tribal law (Section 710(d)(2))

− employing or hiring a person under 18 years old for the manufacture, production, possession, distribution,

dispensation, administration, or delivery of marijuana (Section 710(d)(3)).

• As a practical matter for due diligence, it may be difficult for a financial institution to determine

whether a CRB complies with the provisions under Section 710(c)–(d).

Exceptions that Trigger CSA and MLCA Violations THE STATES ACT

23

GAO Study on Effects of Cannabis Legalization on Traffic Safety

• The STATES Act requires the Comptroller General of the United States to conduct a study on the

effects of cannabis legalization on traffic safety, which includes a detailed assessment of:

− traffic crashes, fatalities, and injuries in States that have legalized cannabis use, including whether States

are able to accurately evaluate cannabis impairment in those incidents;

− actions taken by the States that have legalized cannabis to address cannabis-impaired driving, including

any related challenges;

− testing standards used by States that have legalized cannabis to evaluate cannabis impairment in traffic

crashes, fatalities, and injuries, including any scientific methods used to determine impairment and analyze

data; and

− Federal initiatives aiming to assist States that have legalized cannabis with traffic safety, including

recommendations for policies and programs to be carried out by the National Highway Traffic Safety

Administration.

• Within 1 year after the STATES Act’s enactment, the Comptroller General of the United States

must submit a report on the results of the study to the appropriate congressional committees.

Other: Government Study and Report THE STATES ACT

Pros Cons

SAFE Banking

Act

• Addresses issues specific to the banking sector

– Expressly protects depository institutions and

insurers

– Bars actions by Federal banking regulators

– Amends the BSA and requires FinCEN to have in

place guidance consistent with the act

– Instructs the FFIEC to issue guidance and

examination procedures

• Provides that proceeds of a transaction conducted by a

cannabis-related legitimate business or service provider

shall not be considered proceeds of an unlawful activity

under the MLCA solely because the transaction was

conducted by a cannabis-related legitimate business or

service providers

• Does not amend the CSA

• Limits certain protections mainly to depository institutions

– Omits broker-dealers, underwriters, asset managers,

and custodians

• Adopts Title X of the Dodd-Frank Act’s definition of

“financial product or service,” which excludes key financial

services

• Only applies safe harbor to actions taken by Federal

banking regulators, which do not include the DOJ

• Relies on Federal agency guidance, which is revocable

• Conditions protections on a CRB engaging in activities

“pursuant to” State law

STATES

Act

• Amends the CSA

– Protects CRBs, in addition to service providers

– Addresses indirect businesses

• Provides that proceeds from any transaction in

compliance with State law and the STATES Act shall not

be deemed to be the proceeds of an unlawful

transaction or any other law

• Does not expressly reference the financial services sector

– Offers no guidance for customer due diligence

requirements and issues no directives to Federal

agencies to do so

• Conditions protection on the CRB “acting in compliance

with” State law

24

Overview COMPARING THE SAFE BANKING ACT AND STATES ACT

25

• The SAFE Banking Act provides a safe harbor and other protections primarily for the banking

sector.

− The bill also delegates to Federal agencies the task of maintaining or developing guidance:

• The Treasury Secretary must ensure that guidance on SARs issued by FinCEN comports with the bill’s

purpose and intent and does not significantly inhibit the provision of financial services to cannabis-related

legitimate businesses or service providers.

• The FFIEC must develop uniform guidance and examination procedures for depository institutions.

• The STATES Act amends the CSA so that certain cannabis-related activities that are lawful in the

State jurisdiction no longer serve as a predicate offense for triggering prosecution under the

MLCA.

− The bill structurally changes the CSA:

• Protects CRBs that comply with State laws unless certain amended CSA provisions are implicated.

− The protections do not expressly reference the financial services sector:

• But importantly, the bill includes a general rule of construction for recipients of proceeds from transactions

conducted in compliance with the STATES Act.

• It is unclear what actions Federal banking regulators should or may take (for example, how the bill would affect

SAR obligations and diligence requirements).

Approach to Removing Federal Barriers COMPARING THE SAFE BANKING ACT AND STATES ACT

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• The SAFE Banking Act’s safe harbor and forfeiture protections focus on depository institutions

that provide financial services consistent with the definition of “financial product or service” in

Title X of the Dodd-Frank Act.

− Focus on Depository Institutions. The protections do not explicitly protect broker-dealers, underwriters,

asset managers, and custodians that rely on nonbank entities.

• However:

• The protections from Federal liability provision would also shield insurers and entities performing financial

services for or in association with depository institutions, such as payment card companies and merchant

service providers.

• A new section on treatment of proceeds of cannabis-related legitimate businesses and service providers

would extend beyond depository institutions to also cover other financial institutions and even CRBs.

− Cross-Reference to Title X. Title X’s definition focuses on the consumer protection context and would

exclude certain financial services to businesses, such as capital markets and wholesale activities.

• See Margaret Tahyar & Jeanine McGuinness, HFSC Advances the SAFE Banking Act to the Full House,

Financial Regulatory Reform (Apr. 2019) [Link].

− Taken together, these two limitations prevent the SAFE Banking Act from covering financial service

providers and financial services that would be vital to facilitating the U.S. cannabis sector’s transformation

into big business.

Breadth of Protection COMPARING THE SAFE BANKING ACT AND STATES ACT

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• The STATES Act extends protection to financial institutions and CRBs generally since it would

amend the CSA, and recipients of proceeds from transactions that comply with State law would

not violate the MLCA.

− Compared to the SAFE Banking Act, the STATES Act covers a broader range of financial service providers

and financial services.

− However, even if the cannabis-related activity complies with State law, prosecution under the CSA and

MLCA could still occur if other activities targeted by Section 710(c)–(d) of the amended CSA were

implicated, including:

• distributing recreational marijuana to persons under 21 years of age;

• employing persons under 18 years of age; and

• creating substantial risk of harm to human life.

Breadth of Protection COMPARING THE SAFE BANKING ACT AND STATES ACT

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• Neither bill federally legalizes cannabis or preempts State law.

− Financial institutions would need to observe State and local laws regulating cannabis, which would likely be

complex within each State and varied across State jurisdictions.

• The protections of both bills turn, at least to some extent, on a CRB’s compliance with State laws.

− What happens when there is a nonmaterial lack of compliance with State laws?

− The SAFE Banking Act only expressly shields depository institutions that bank CRBs engaged in specified

activities “pursuant to” State law.

• “pursuant to” is not defined, leaving uncertain the extent of compliance needed for a CRB to be a “cannabis-

related legitimate business” and for its depository institution to be protected under the SAFE Banking Act.

− The STATES Act only exempts proceeds from transactions with CRBs acting “in compliance with” State law.

• “in compliance with” is not defined, leaving uncertain the extent of diligence needed for a CRB and its financial

services provider to be protected under the STATES Act.

• A CRB’s failure to comply with State law or Sections 710(c)–(d) of the amended CSA appears to reinstate

liability under the CSA and MLCA for its financial services provider, irrespective of the rigor of due diligence.

− Is the SAFE Banking Act’s “pursuant to” standard less stringent than the STATES Act’s “in compliance with”

standard?

• Though moving in the right direction of clarity and better than the status quo, neither the SAFE

Banking Act nor the STATES Act currently goes far enough to alleviate concerns with providing

financial services to CRBs.

Further Challenges COMPARING THE SAFE BANKING ACT AND STATES ACT

Davis Polk Contacts

CONTACTS PHONE EMAIL

John Banes +1 212 450 4116 john.banes@davispolk.com

Luigi L. De Ghenghi +1 212 450 4296 luigi.deghenghi@davispolk.com

Randall D. Guynn +1 212 450 4239 randall.guynn@davispolk.com

John B. Reynolds, III +1 202 962 7143 john.reynolds@davispolk.com

Margaret E. Tahyar +1 212 450 4379 margaret.tahyar@davispolk.com

Jeanine P. McGuinness +1 202 962 7150 jeanine.mcguinness@davispolk.com

Will Schisa +1 202 962 7129 will.schisa@davispolk.com

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If you have any questions regarding the matters covered in this publication, please contact any of the lawyers listed

above or your regular Davis Polk contact.